Question

Salty Pawz was established using Wanda’s personal funds, since she initially sold her products only to friends and family and was able to pay for everything as she went along. Now that the business is growing, she knows she cannot finance the expansion out of her own pocket, so she is considering taking out a loan. She has no experience with financial institutions, other than the basics such as managing her personal bank accounts, a credit card, a mortgage and a car loan, all of which are with the local credit union. Wanda estimates that she can triple her baking capacity if she expands into a local retail bakery space and hires baking staff, but she will incur the following expenses to expand her business: Start-Up Costs Security deposit = $4,000 Construction= $17,500 Commercial Appliances = $10,000 Additional Pots, Pans & Storage Containers = $2,500 Permits= $750 Total Estimated Start-Up Costs= $39,750 Ongoing Monthly Expenses Rent = $2,500 a month Utilities = $1,000 a month Staffing = $6,000 a month Insurance= $750 a month Total Estimated Monthly Expenses= $10,250 Your Task Explain three (3) potential funding options that Wanda has for raising capital for her business. Be certain to explain the advantages and potential disadvantages of each funding method. If you were Wanda, would you expand into the local retail space? Why or why not? Support your answer by comparing her current financial situation (baking from her home) with a profit and break even analysis in the new bakery.

Answer 1

The potential sources of funds available to Wanda are listed as below:

1) Family and Friends

Wanda can raise capital from family and friends to finance her initial fund requirements of $39,750. This would save her the hassle of dealing with banks/financial institutions. She might also be able to reduce/eliminate her interest costs associated with borrowings from other sources. She can also offer them her products as an alternative to repaying the loan (as they are her current customers). However, if Wanda is not able to successfully run her business and repay the loan, she might spoil her relationships with her family and friends and also lose her existing base of customers.

2) Venture Capitalist

Wanda can try to raise capital from a venture capitalist who is willing to invest in a startup firm with growth potential. As, Wanda is already running her small business successfully, she can prepare a business plan on the future prospects (of her business) and show it to the venture capitalist. If she is able to secure finance through a venture capitalist, she might not need to borrow money from any other source of finance. This form of financing is particularly suitable for small businesses/startup ventures who don't have access to other means of raising capital (such as equity, etc). Venture capitalists also provide guidance on how to run and manage a business (because of their previous experiences). However, obtaining funds from a venture capitalist is very difficult and time consuming. Wanda may be required to approach different venture capitalists before her plan finally gets approved for financing by any venture capitalist. Additionally, venture capitalists often demand a share of ownership in the firm or high returns on their investments (because of high risks taken by them by investing in a startup/small business). This can have an impact on the way Wanda plans to run her business.

3) Banks/Financial Institutions

Last but not the least, Wanda can raise capital from any bank/financial institution. Wanda may be required to offer some security (such as her property, etc.) in order to obtain loan from bank//financial institution. Additionally, Wanda will be required to pay interest on the amount so borrowed at regular intervals. Failure to repay the loan on time can result in the bank/financial institution taking control of the property so secured by Wanda at the time of obtaining credit.

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As Wanda is already running a successful business and her business is growing, she should certainly try to enter into local retail space. By doing so, she will be able to reach new customers. It is important to understand that Wanda may not be able to earn profits immediately from the expansion. Initially, Wanda may have to suffer some losses and might not even break even. But, if she continues to provide high quality products at reasonable prices, she will be successful in the long run. She can also use the testimonials/references of her existing customers in order to attract new customers. Wanda should focus on recovering the monthly costs (both fixed and variable) in the initial phases of her retail business. That is, even if Wanda is able to recover her monthly expenses initially, she should continue to operate in the local retail business. With more experience and word of mouth publicity, she would soon be able to earn profits.

To break even, she would need to calculate her variable cost and selling price and take into account the fixed costs of $10,250 incurred by her on a monthly basis. With the use of this information, she would be able to derive the minimum quantity that is needed to be sold to have a no profit no loss situation. While baking from home has limited fixed costs, she has limited customer base. With a retail shop, Wanda will have access to customers outside of her own network and this is likely to increase her sales and consequently profitability.